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Analysis by Keith Rankin.

The current account of the balance of payments is a measure of a country’s level of financial imbalance. For the world as a whole, the current account balance is always zero. A current account deficit in a particular country is neither bad nor good; it’s simply a measure of that country’s spending in excess of its income.

New Zealand has had current account deficits (green line) every year since 1974. It means that it has had financial account surpluses (red line; strictly ‘financial/capital account’ surpluses) every year since 1974.

By definition, for any country the current+financial+capital account balances must add to zero at all times. (The capital account is usually very small compared to the others – excepting times of large international insurance payouts, such as after the Christchurch earthquakes that began in 2010.) Essentially the current and financial accounts are mirror images.

The unstated assumption of most economic and financial analysts is that the current account balance is ‘autonomous’, meaning it is determined by our spending and earning behaviour, and that the financial account is accommodating, meaning that we resolve spending excesses through a mix of foreign borrowing and foreign asset sales (this mix is the ‘financial account’); and that if we did not have spending excesses then we would neither need to borrow from foreigners, nor sell assets to them. Through this understanding, an inability to finance an autonomous deficit would result in a depreciation of the New Zealand dollar (exchange rate).

The orthodox story is nonsense. Since 1985, current account deficits have accompanied significant appreciations of the New Zealand exchange rate. The principal driver of these data has been the financial account. Much more foreign finance has flowed into New Zealand than our much maligned spending habits would justify. The result has been a general pattern of currency appreciation, and accommodation through the current account.

For the most part – at least since financial liberalisation in 1985 – the current account deficits (spending excesses, if you will) have been induced by currency appreciations; appreciations which themselves resulted mainly from foreigners’ attraction to New Zealand as an ‘investment’ destination.

In the 1970s the orthodox story held. When export prices were very high in 1972 and 1973 then New Zealand ran current account surpluses. When import prices were very high from 1974 then New Zealand ran current account deficits. Deficits increased in the early 1980s when New Zealand Inc. actively borrowed in order to fund large-scale investment projects (‘Think Big’) designed to reduce imports in the long-run.

From 1985 – especially in the mid-1980s, mid-1990s, mid-2000s, and mid 2010s – foreign money flowing into New Zealand appreciated the currency as it flowed into assets’ markets. This appreciation (a ‘price signal’) induced import-led consumption; shown in the chart as the larger swings of the current account balance. The cause of the foreign financial inflows was a mix of savings’ gluts (the foreign push factor) and needlessly high interest rate settings in New Zealand (the domestic pull factor).

In the most recent years, the ‘unresolved’ data represents the largely unmeasured financial inflow that mirrors the measured current account deficits. The numbers are lower than a decade earlier mainly because of lower interest rates reducing the debt-servicing component of the current account balance. To counter any complacency about this, however, the indebtedness to the rest of the world implicit in these data becomes more problematic in a coming world of deflation and recession.

If every country tried – with the determination of those in Europe and Asia – to run current account surpluses (with the green line above the zero line and the red line below the zero line), then the capitalist world economy would quickly collapse. A systemic failure. We remind ourselves that every current account surplus in one country must be offset by a deficit in another, by definition, no matter how hard all try to run surpluses. It’s the Anglo and Latin and African countries that presently keep the world economy afloat, by being willing (if not happy) to run current account deficits.